JPMorgan’s Cap on Largest U.S. ETN May Cause Premiums

(Corrects issuer of TVIX note in seventh paragraph of story
originally published June 18.)

June 18 (Bloomberg) -- JPMorgan Chase & Co. capped the size
of the largest U.S. exchange-traded note after it grew more than
20 percent this year, boosting the odds that the security’s
price may become unhinged from its value.

The JPMorgan Alerian MLP Index ETN will be limited to 129
million shares, the New York-based bank said Thursday in a
statement. The note, which tracks partnerships that don’t pay
federal income taxes and rely on assets such as oil pipelines to
generate cash flow, added 22 million shares this year to 116
million before the announcement, an increase of 23 percent,
according to data compiled by Bloomberg.

The restriction may lead the security to trade at prices
not based on the underlying index, the so-called indicative
value, said Ron Rowland, editor of Invest With An Edge, an
exchange-traded funds newsletter. In February, Credit Suisse
Group AG stopped issuing shares of a volatility-tied note under
the ticker TVIX that a month later began diverging from its
underlying index to trade at a premium of as much as 89 percent.

“Capping the number of shares converts these products into
de facto closed-end funds, which are very different animals,”
said Rowland, who is also founder of Capital Cities Asset
Management Inc. in Austin, Texas. “This will lead to problems
like we saw with TVIX.”

Jennifer Zuccarelli, a spokeswoman for JPMorgan in New
York, declined to comment.

Investors who want to bet on master limited partnerships can
choose from at least nine other exchange-traded products. UBS AG
and Credit Suisse offer ETNs, and ALPS Advisors Inc. sells the
largest exchange-traded fund tied to an MLP index.

Price Gyrations

The TVIX note lost more than 50 percent of its value in two
days in March. After record demand made the security difficult
to hedge, Zurich-based Credit Suisse stopped creating new shares
of the ETN on Feb. 21, and the price later became dislocated
from its indicative value. The U.S. Securities and Exchange
Commission is probing price gyrations in the note, a person
familiar with the matter said in March.

The JPMorgan Alerian ETN is the largest in the U.S. with a
market capitalization of $4.21 billion and makes up more than a
quarter of the ETN market. It tracks a gauge of 50 publicly
traded master limited partnerships and matches dividends from
the Alerian MLP Index minus a 0.85 percent management fee,
according to a prospectus filed with the SEC. The partnerships
typically invest in assets ranging from pipelines to ships
transporting commodities.

ETNs are unsecured bank debt backed by their issuer’s
credit, unlike exchange-traded funds, which hold assets. Banks
create and redeem shares of ETNs based on the level of demand
for the securities. That demand typically doesn’t affect the
price since the ETNs track the performance of an index.